Raghuram Rajan advices RBI to consider PPI for fixing benchmark interest rates, resists excluding food inflation

Former Reserve Bank of India (RBI) Governor Raghuram Rajan has opposed excluding food prices from headline inflation while setting benchmark interest rates, as this would erode the 'great faith' of people in the central bank when the government has mandated to keep inflationary pressures in check. The leading economist has suggested that the RBI consider the producer price index (PPI) while determining the interest rate.

Rajan further said it is best to target inflation by a basket, which is what people consume, because that affects the consumer's perception of inflation and, ultimately, inflationary expectations. “When I came into office, we were still targeting PPI. Now, that has no bearing on what the average consumer faces.”

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“So, when the RBI says inflation is low, look at PPI, but if the consumer is facing something very different, then they do not really believe that inflation is down,” the former RBI Governor told news agency PTI.

Rajan was responding to a question about suggestions in the Economic Survey 2023-24 to exclude food inflation while setting benchmark interest rates. "So, if you leave out some of the most important parts of inflation and tell them, inflation is under control, but food prices are going to the roof, or something else is going up, which is not included in the inflation basket, then you know, they would not have great faith in the Reserve Bank," he said.

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Chief Economic Advisor V Anantha Nageswaran, in the Economic Survey 2023-24, advocated excluding food inflation from the rate-setting calls, saying that monetary policy has no bearing on the prices of food items, which are dictated by supply-side pressures. Rajan, currently a finance professor at the US-based University of Chicago's Booth School of Business, said the argument against excluding food inflation is that 'you cannot affect it'.

‘Weightage of food in CPI needs to be revisited’: Rajan

"You cannot affect food prices in the short run, but if food prices stay high for a long time, that does imply there are constraints on producing food relative to the demand, which means to balance that, you have to bring down inflation in other areas, which is what the central banks can do," the eminent economist said. According to Rajan, the RBI can target the aggregate price level.

Rajan added that the weightage of food in overall consumer price inflation, which currently stands at 46 per cent, was done in 2011-12 and needs to be revisited. India introduced the inflation-targeting framework in 2016, under which the RBI is mandated to keep retail inflation at four per cent, with a margin of two per cent on either side.

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The RBI decides the benchmark policy rates bi-monthly based on the movement in the consumer price index, which includes food, fuel, manufactured goods, and select services. The RBI projects retail inflation for 2024-25 at 4.5 per cent, lower than 5.4 per cent in the last fiscal.

‘SEBI chief Madhabi Buch must use Caeser’s wife playbook': Rajan

Responding to a question on multiple allegations levelled by the US-based short seller Hindenburg Research and the Congress party against Securities and Exchange Board of India (SEBI) chief Madhabi Puri Buch, Rajan said that one has to be careful here as anybody can make allegations at any time.

"But if there is sufficient sort of investigation that has gone into allegations, then it is really important for the regulator to be like 'Caesar's wife must be above suspicion', which means that you have to address the allegations ... point by point," he said.

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Pointing out that the allegations against the SEBI chief involve conflicts of interest, Rajan said that the more detailed the investigation into the allegations, the more detailed, in a sense, the response has to be point by point.

"Ultimately, I think it is important that our regulators be, you know, as credible as possible and that benefits the nation, benefits the markets. It benefits even the regulators themselves," he opined.

Last month, in a joint statement, SEBI chairperson Madhabi Puri Buch and her husband Dhaval Buch denied Congress' allegations of impropriety and conflict of interest, saying they were false, malicious, and motivated.

Asked to comment on the UPSC decision to withdraw its advertisement seeking lateral entry into the bureaucracy, Rajan said he thinks good talent and fresh blood in government are always a good thing.

"It has to respect the incentives of the people already in. You cannot sort of upset them by saying. We will close out all promotions for you by bringing people from outside...you have to respect the kinds of affirmative action," he said. Rajan said he is not against lateral entry, but it requires some consensus building so that 'you do not anger too many people in the process'.